Americans abroad and the compliance dilemma: What should be considered before contacting a lawyer

The “Readers Digest Version …

It’s difficult to be a U.S. citizen living outside the United States. The U.S. extra-territorial tax regime has created an industry of professionals who “feast off the injustice” of the U.S. tax and regulatory regime. U.S. citizenship taxation reinforced by FATCA has truly created for tax, financial planning, and immmigration professionals:

“The gift that just keeps on giving.”

The messaging to Americans abroad includes:

Americans abroad who don’t file U.S. taxes are constantly warned of the consequences of non-compliance.

Americans abroad who DO file U.S. taxes are constantly warned of the consequences of mistakes in their attempts at compliance.

Americans abroad attempting financial and retirement planning outside the United States are constantly on the search for financial products that wont’ conflict with U.S. tax rules.

Americans abroad who want to escape by renouncing U.S. citizenship are constantly being warned of possible tax and immigration consequences associated with renunciation.

(It’s clear that U.S. citizens living outside the United States are being punished for who they are and NOT what they do or don’t do.)

In this context, there continues to be a significant “fear mongering” coming from various players in the U.S. tax compliance industry. I suggest that Americans abroad should exercise caution in how they respond to these messages. In 2013 I wrote a post suggesting eleven principles for how one should respond to the U.S. tax compliance (or noncompliance) problem. This 2023 post is intended to provide an update to the 2013 post. The 2013 post is reproduced as Part C of this update.

This general purpose is to provide suggestions for how to RESPOND rather than REACT to your possible situation as a U.S. citizen living outside the United Staes. My thoughts are organized in the following four parts:

Part A – “Proper U.S. legal advice” – What does it mean and where should you seek it?
Part B – The evolution of the compliance landscape from 2013 to 2023
Part C – My original post from July of 2013
Part D – Summary and two final thoughts

Part A – “Proper U.S. legal advice” – What does it mean and where should you seek it?

Further thoughts and updates – November 24, 2023 …

This post (see Part C) was originally written on July 10, 2013. I had completely forgotten about it, but was reminded of it when I read an “advertorial” this week. The “advertorial” was from a U.S. tax compliance firm which was “fanning the flames of fear” and generally trying to market their services …

The article included the suggestion that U.S. citizens in Canada receive “proper U.S. legal advice“. The implication is that “proper U.S. legal advice” would come from a U.S. licensed lawyer (yes, sounds reasonable). That said, it’s important to understand that “U.S. lawyers” who “practise before the IRS” are subject to the Treasury’s Department Circular 230. Circular 230 includes what is in effect a code of professional conduct for tax professionals who practise before the Internal Revenue Service. (This includes U.S. licensed lawyers, U.S. licensed accountants, Enrolled Agents, etc.) Of particular note are the following two sections which are of direct relevance to Americans abroad seeking advice about their U.S. tax compliance obligations.

The obligations that Circular 230 imposes on the U.S. advisor include:

1. The obligation to inform the person of noncompliance and the associated penalties/consequences

§ 10.21 Knowledge of client’s omission.

A practitioner who, having been retained by a client with respect to a matter administered by the Internal Revenue Service, knows that the client has not complied with the revenue laws of the United States or has made an error in or omission from any return, document, affidavit, or other paper which the client submitted or executed under the revenue laws of the United States, must advise the client promptly of the fact of such noncompliance, error, or omission. The practitioner must advise the client of the consequences as provided under the Code and regulations of such noncompliance, error, or omission.

(Note that this directs the advisor to describe the possible penalties.)

2. The requirement of NOT assisting in or advising non-compliance

§ 10.51 Incompetence and disreputable conduct.

(a) Incompetence and disreputable conduct.
Incompetence and disreputable conduct for which a practitioner may be sanctioned under §10.50 includes, but is not limited to —

(7) Willfully assisting, counseling, encouraging a client or prospective client in violating, or suggesting to a client or prospective client to violate, any Federal tax law, or knowingly counseling or suggesting to a client or prospective client an illegal plan to evade Federal taxes or payment thereof.

(At a minimum this directs the advisor to NOT suggest that non-compliance is an option.)

Bottom line: “Proper U.S. legal advice” is likely to include: identification of noncompliance, a discussion of penalties and a directive that compliance is the correct course of action. It’s important that this be understood BEFORE seeking U.S. centric advice.

Would it make a difference if one consulted a non-U.S. advisor?

I suspect that the answer may vary on a county by country basis …

The situation in Canada appears to be that Canadian lawyers, accountants, etc. are NOT subject to Circular 230. I expect they might tell you that there is no Canadian law that requires Canadian residents to comply with U.S. tax laws. In any case, they clearly are NOT required to read you the “Circular 230 Riot Act”. While updating this post I came across a 2016 fascinating post at the Isaac Brock Society that discusses this very issue. Obviously, the post could not be understood to be legal advice. That said, it does make some interesting observations.

The context of the Isaac Brock Society post is captured in the introductory paragraph:

[Many readers living outside the U.S. who are not IRS compliant, have sought advice from tax attorneys on whether they should or should not enter into a lifetime of IRS compliance, and what would be the “cost”. Maybe your tax attorney living in Canada etc. is also an Enrolled Agent of the U.S. IRS, possibly affecting the nature of the interaction between attorney and you the client. What were the options suggested and especially disclosures made to you by your attorney? Attorneys must adhere to the professional and ethical standards of their law societies. See discussion below:]

As always, I suggest that your general advisor should be different from the person who does your actual tax preparation!

Part B – The evolution of the compliance landscape from 2013 to 2023

Generally since, 2013:

– the “Offshore Voluntary Disclosure Program” – OVDP – was retired in 2018

– the “streamlined compliance procedures” are better and available to more people

– the IRS “Relief Procedures For Former Citizens” program was introduced in 2019

– the “delinquent international information return” procedures (including “Delinquent FBAR Submission Procedures“) have evolved

A 2020 podcast exploring these options is available here.

My general advice about how to approach this problem remains intact. I continue to recommend separating the “advisor” from the “tax preparer”.

Part C – My original post from July of 2013

(Note that I have included a horizontal line through the parts that are no longer relevant because of the change in compliance options detailed in “Part B” above.)

What should be considered before contacting a lawyer

decision

The Reality of U.S. Citizenship Abroad

Nobody denied that the unintended targets of Congressional legislation aimed at those who supposedly “owe allegiance” to the USA, now assisted by craven foreign governments anxious lest their financial services entities lose access to the US market, are mostly unlikely to do anything at all. But the whole idea of universal self-assessment of taxation is to keep the taxpayer in an anxious condition, to make him overpay if possible, but at least not to underpay. Those now faced with an unprecedented, even retroactive, enforcement campaign and who must, if they wish to become compliant and avoid penalty or even prosecution (should they be identified in the future), sacrifice much of their wealth, even become insolvent.

Comment at the Isaac Brock Society blog – July 29, 2013

It’s a tough time to be a U.S. citizen abroad. The world is awash in FATCA anxiety. The U.S. has discovered FBAR as a way to raise penalty revenue and have embarked on an “FBAR Fundraiser”. Incredibly all bank accounts outside the U.S. are considered to be “offshore accounts“. U.S. law requires U.S. citizens to enter the U.S. with a U.S. passport. Those renewing their passports are now required to provide information relevant to tax compliance. Many are inclined to simply renounce their U.S. citizenship. Even renouncing citizenship has tax implications. Yet, all indications are, that the vast majority of U.S. citizens abroad are NOT tax compliant.

U.S. citizenship abroad is a problem that needs to be solved.

When it comes to solving problems:

Eleven considerations to help you formulate the problem – What to consider before consulting a tax or compliance professional …

1. Investigate the “State” (no pun intended) of your U.S. citizenship

U.S. Citizens born or naturalized in the U.S.

You may have committed a “relinquishing act”. If so, you may have lost your citizenship. Many who  became dual citizens prior to 1986 may have a strong claim that they are longer a U.S. citizens. Some who became dual citizens after 1986 (depending on the facts may have relinquished their U.S. citizenship.)

Those who relinquished their U.S. citizenship by becoming a citizen of another country  may be entitled to a “backdated CLN” – ( backdated Certificate of Loss of Nationality).

Those born outside the U.S. to one or more U.S. parents

Those born abroad to U.S. citizen parent(s) should seek a professional opinion on your citizenship. Under no circumstances should you simply presume/accept that you are a U.S. citizen.

Sounds ridiculous, but remember it is only “U.S persons” (at least so far) who are under assault. Take the appropriate steps to determine whether you are a U.S. person.

2. Emotional considerations are as important as tax considerations

If you are reading this post the chances are that you are worried. People find themselves at different points on the “anxiety spectrum”. This spectrum ranges from “annoyed curiosity” at the one extreme to “incapacitating trauma” (possibly requiring psychotherapy) at the other extreme. You need to choose the route that best allows you to live your life as a U.S. citizen abroad. You need to be able to sleep at night and move on …

You are dealing with a life planning problem that has arisen because of tax and citizenship issues.

3. It is important that you respond and NOT react!

As the above quote says, tax compliance is designed to make you anxious. The IRS, the lawyers, EAs and accountants are happy to exploit your anxiety. Do NOT react! You must respond. A response requires a calm, deliberate state of mind.

Therefore, a “response” requires you to:

Take your time in coming to a decision.

4. A “response” requires that you investigate your possible U.S. tax liability

You should NOT involve a lawyer or accountant until you reach the point where one is required. There is a difference between consulting a lawyer and consulting an accountant. A consultation with a lawyer will give you the benefit of “lawyer client privilege”. This means that, for the most part, conservations with your lawyer will stay with your lawyer. This is NOT the case with conversations with accountants.

You should first take steps to determine whether there may be any tax liability.  (This is NOT the same as determining how much the tax liability may be.)  This involves recognizing areas where the U.S. and Canada have different tax rules.  Remember that the existence of PFICs, Foreign Trusts or Controlled Foreign Corporations (including a Canadian Controlled Private Corporation) are things to consider. The sale of your principal residence is NOT tax free under U.S. tax law. Having you been reporting your RRSP properly? Did you know that TFSAs are not tax exempt under U.S. law?  What about your non U.S. pension plan? Remember, at this stage you are in “fact finding” mode.

Those with simple situations might consider using a tax preparation program (Geithner used TurboTax).

Remember that all transactions and valuations must be converted to U.S. dollars.

To reiterate: You must do as much homework as you can prior to a professional consultation.

5. A response requires that you understand your  U.S. tax compliance options

What are the vehicles for coming into compliance? What options are available to you?

There are three general categories of options for coming into compliance.

(i) Using OVDP or Streamlined Compliance. This implies direct IRS involvement. These options will necessitate higher professional fees. (OVDP is designed for criminals and not for honest U.S. citizens abroad.) If anybody tells you to enter OVDP please contact me to discuss this.

As discussed in the introduction the OVDP program has been retired. The IRS does have “Voluntary Disclosure Program” that is designed for people with a reasonable expectation of criminal prosecution (this is NOT appropriate for Americans abroad who had no real understanding of U.S. citizenship taxation). The Streamlined Compliance is still an option. For those renouncing U.S. citizenship the “Relief Procedures For Former Citizens” may be an option. It is also possible to fix specific “information return related issues (including FBAR) through aspects of the IRS “Delinquent Information Return Procedures”. I strongly suggest discussing/exploring these options with as advisor with experience in each of these.

(ii) Simply file or refile (amend) your past returns. There is no requirement of IRS involvement. But, they may “audit you” later. (In this regard see the December 2011 IRS FS for U.S. citizens abroad.)

(iii) Simply file properly on a “going forward” basis. If the IRS wants to reopen the past, let them.

Note:  The real decision is whether or not to involve the IRS into your coming into compliance.

6. A response requires that you consider how your response may affect your Canadian (or other local) tax situation

Remember that a course of action that might make sense from a U.S. perspective, could be harmful from a Canadian perspective. Remember that the sale of assets will generally trigger a tax liability somewhere.

To put it simply: Every U.S. action will have a Canadian reaction and vice-versa.

7. Compliance decisions are rarely susceptible to “black and white answers” – That’s why a decision is required

Although you must come to a decision, you must also understand that there is NO “black and white answer” to the compliance question. Don’t think in terms of right and wrong decisions. Think in terms of “better vs. worse” decisions. Consider your personal circumstances. How complicated is your situation? What is your tolerance for risk?

By its very nature, anything that requires a decision is NOT clear.

8. Chances are you will NOT be happy with any course of action.

There is NO option that  you will be happy about. That said, some options are worse than others.

If you do nothing you are running the risk of being discovered and may worry about the risk of discovery.

If you attempt to clean up past problems, it may be financially crippling.

If you comply on a “going forward basis” you may worry about the past.

9. Choosing among compliance options is largely about choosing among emotional outcomes. Do you prefer to live with anger or anxiety?

Because of the injustice of the application of U.S. tax laws to Americans Abroad you may be left with a healthy dose of residual anger. You thought you were investing in mutual funds to save for retirement. The accountants and lawyers tell you that the IRS regards mutual funds as investments to confiscate. The injustice is extreme! Anger is inevitable. Anger is difficult to live with. If  you comply on a “going forward” basis you will have greater anxiety. Therefore, compliance options must be viewed in terms of both “objective” and “subjective” considerations.

A. Objective – What is the perceived compliance result of your choice and what are the financial costs?

B. Subjective – What is the emotional state you are left with. For many this is a choice between extreme anger and extreme anxiety. What is the emotional cost?

10. Understand the reality of  lawyers and accountants

They are working for the IRS but are being paid by you. The Circular 230 obligations of U.S. lawyers, U.S. accountants and Enrolled Agents is to assist you with your compliance obligations. They may be friendly, but they are not your friend. They can and should help you minimize your tax and reporting obligations within the framework of the law. Some of them must interact with the IRS in their professional lives. Those lawyers, accountants and EAs (“Enrolled Agents”) who appear before the IRS are subject to IRS rules of practice. These rules are found in Circular 230. This is an important and is developed in the video referenced in the following tweet:

(2023 Update: Although the video referenced in the above tweet is no longer available, and interesting discussion of the video is available at this post on the Issac Brock Society.)

Lawyers and accountants cannot tell you to NOT come into compliance!

Therefore, don’t ask them that question. Their job is to explain to you the consequences of all available options, actions and possible reactions. You and only you are responsible for making the decision that is appropriate to your situation. I urge you to take responsibility for that decision.

11. Coming into compliance will solve one problem but will create another (possibly bigger) problem

There are two kinds of U.S. citizens abroad who have problems:

A. U.S. citizens abroad who are NOT compliant with U.S. “tax laws”.

They are forced to endure the continual threats of penalties from the IRS, the media and the compliance industry. Note that there are two kinds of “non-compliant” Americans abroad.

First: Those who have NOT been filing and are NOT in the system.

Second: Those who have been filing, thought they were compliant,  but learn that they have been filing incorrectly (very common).

B. U.S. citizens abroad who ARE compliant with U.S. “tax laws”.

U.S. citizens abroad who are tax compliant also have massive problems. Taxpayer-advocate reports that for U.S. Citizens Abroad, tax compliance is somewhere between difficult and impossible.

U.S. Tax compliance:

– is impossibly financially expensive for the average person;

– will consume an unjustifiable amount of time and stress;

– means that you will be unable to engage in normal retirement planning.

To put it another way: coming into U.S. tax  compliance will solve one set of problems. But, it will create a new set of problems. Once you are compliant, you must stay compliant! The problem of “staying in compliance” is enough to make people seriously consider renunciation of U.S. citizenship.

Part D – Summary and two final thoughts

1. Educate yourself and consider the eleven point list in Part C above before involving a “cross-border” professional!

2. You should neither sell nor acquire any investments without determining the U.S. tax consequences! You do NOT want to make the situation worse!

If you need a consultation/advice …

I can be reached at here.

Sometimes the hardest part of life is NOT making a decision, but learning HOW to make a decision!

John Richardson – Follow me on Twitter @Expatriationlaw

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